MODULE 4 PROTECTING YOUR PROPERTY

1. MODULE 4
PROTECTING YOUR PROPERTY
Learning Outcomes:
•Define Real estate, zoning, encumbrances, earnest
money deposit, sellers’ market, buyer’s market
occupancy rate, cap, refinancing, leverage
acquisition, buy-down mortgage, gross rental
multiplier, rate of return on investment, payback
period, time adjusted rate of return and other
terms in this lesson.
•Enumerate the following, advantages and
disadvantages of real estate as an investment
vehicle
•Factors to be considered in real estate investment

2. REAL ESTATE

3. INTRODUCTION:
•REAL ESTATE HAS BEEN A FAVORITE LONG-TERM
INVESTMENT VEHICLE.
•” People come and go but Land always stays.”

4. WHAT IS REAL ESTATE?
• REAL ESTATE REFERS TO LAND AND ALL
PERMANENT IMPROVEMENTS THEREON
INCLUDING BUILDINGS.
• IT MAY BE AGRICULTURAL, INDUSTRIAL,
COMMERCIAL, RESIDENTIAL, OR IN THE FORM
OF RENTAL UNITS.
• RENTAL UNITS INCLUDE CONDOMINIUMS,
APARTMENTS, AIR BNB, ETC.
NOTE: IN INVESTING IN REAL ESTATE, THE
PROPERTIES WITH THE BEST POTENTIAL FOR
FUTURE APPRECIATION IS CHOSE, GOOD TENANTS
ARE ACCEPTED, AND VALUE IS MAINTAINED
THROUGH PERIODIC MAINTENANCE.

5. ADVANTAGES AND DISADVANTAGES OF REAL ESTATE
Advantages:
• It is a hedge against inflation. The price of land in the Philippines, in
general,increases steadily.
• It is one of the few finite investments. Land available for development is limited.
• It is one of the necessities of man.
• It is a tangible asset and can be directly controlled by the owner, as such it provides
a visible evidence of the investor’s financial status.
• It can be used in financing. It is generally acceptable as collateral in obtaining loans.
• It can provide periodic income when leased out.
• Ownership of real estate can bring in periodic income in the form of rental income.
it can be mortgaged to raised additional capital.
• Ultimately, it can be disposed of at a gain because it increases in value with time.
• Even if not disposed of, real estate increases an investor’s equity because if its
appreciation in value.

6. • Real property costing P500,000 is sold for P1,250,000 or 250% after
eight years. The gain must be P750,000 or P93,750 per annum arrived
as follows.
• Annual gain = (P1,250,000-500,000)8 years. = P93,750
Rate of gain = P 93,750/P500,000 = 18.75%
With an annual earnings rate of 18.75%, the investment
may be considered very attractive
Example:

7. ADVANTAGES:
•Investing in real estate is a hedge against inflation
because it appreciates in value. In some cases, its
appreciation is even ahead of the inflation rate.
•The appreciation or increase in value is due to a
combination of factors such as inflation itself and the
increasing demand for real estate.
•The holding period for real estate investment is five
twenty years depending on its acquisition cost, location
and prospects.

8. DISADVANTAGES:
•It requires a number of years to realize profit on the
investment. Due to the long holding period, the investor
deprives himself of opportunities in other forms of investment.
•It is immovable so that it is not easily transferred from one
party to another.
•Mortgaging real property requires certain procedures adopted
by lending institutions such as credit investigation, property
appraisal and maintenance of required deposits (in the case of
banks)
•It involves big amount so that it is impractical to dispose of it in
case the investor is in need of small amount of additional
capital.

9. CARRY COST OF REAL ESTATE
•THE COSTS INCURRED IN HOLDING ON
TO AN INVESTMENT IN REAL ESTATE
CONSIST OF COST INCIDENTAL TO
OWNERSHIP THEREOF SUCH AS
PROPERTY TAXES, COST OF REGULAR
INSPECTION OF THE PROPERTY, COST OF
NORMAL MAINTENANCE AND
INSURANCE.
•IN DECISION MAKING, OPPORTUNITY
COST OF CAPITAL INCLUDED IN
COMPUTATIONS

10. This refers to the earnings that could be earned in other
forms of investment but which foregone by the investor by
choosing one form of investment.
•Example: Real estate investment of P500,000 brings in
annual rent income of P52,000. Interest on deposit is 7%.
The opportunity cost and differential income are arrived
as follows.
•Opportunity cost of capital= P500,000 x 7%= P35,000
•Differential Income= P 52,000-35,000= P17,000
The P500,000 capital could have earned P35,000 interest
per annum on a time deposit. With average annual
earnings of P52,000, the differential income from the
investment must be P17,000.
OPPORTUNITY COST OF CAPITAL

11. 1. Location.
2. Frontage and shape of the
land
3. Drainage and sewerage
system
4. Width of streets
5. Elevation
6. Possible expropriation
7. Clean Title
8. Encumbrances.
9. Improvement
10.Financing prospects
FACTORS CONSIDERED IN REAL ESTATE

12. FACTORS CONSIDERED IN REAL ESTATE
•Location.
-This is the primary factor in real estate investment.
•Frontage and shape of the land
- The wider is the frontage, the higher is the market value of land.
•Drainage and sewerage system
-This prevents pip clogging and minimizes risk from flood during the
rainy season.
•Width of streets
- Streets should be wide enough for smooth flow of traffic. There
should be provision for pedestrian lane.
•Elevation
- Adequate elevation minimizes risk from flood

13. Possible expropriation
-The prospective buyer should go to the engineer’s office to
determine if there is any planned road widening or other
developments that would result in expropriation of a portion of a
property.
•Clean Title
-Check with the register of deeds as to whether the property is
covered by clean title .
•Financing
- How is the acquisition to be financed?
•Prospects
- This refers to the expected rise in market value due to current
and future improvements in the specific locality.
FACTORS CONSIDERED IN REAL ESTATE

14. •In case there are improvements included in the acquisition of
real estate such as a building, house or warehouse, the buyer
should consider the possible use thereof and the estimated
cost immediate repairs or even demolition.
•He should determine the quality of materials used,
ventilation, layout and possible room for expansion. He/she
might hire the services of an engineer or architect to check on
the property.
•Was the property built of excellent or substandard materials?
•How is the ventilation?
•The latter may be gauged from the floor-to-ceiling height, size
and number of window and doors and which direction they
face
REAL PROPERTY WITH BUILDING OR HOUSE

15. •In the case of rental units, the
investor should also consider services
available such as security, parking,
repairs and maintenance and cafeteria.
•When the properties available for
investment vary in physical condition
because of varying degrees of
maintenance, the investor should
consider the cost of repairs and
cosmetic improvements and their
expected effects on market values.
HOUSE

16. Price Qouted Cost of Repairs Selling price Holding period
PROPERTY A ₱250 000 ₱30 000 ₱450 000 5 years
PROPERTY B ₱120 000
₱20 000
₱300 000 4 years
PROPERTY C ₱320 000 ₱60 000 ₱50 000 6 years
Example: 3 houses are available for sale and the following data are
given
ESTIMATED
The computation would be as follows
Selling Price /Total
cost
Holding period
Gross Margin per
Annum
PROPERTY A ₱450 000- ₱ 28000 /5 Years ₱34 000
PROPERTY B ₱300 000-₱140 000 /4 years ₱40 000
PROPERT C ₱500 000-₱380 000 /6 years ₱20 000

17. •PROPERTY THAT REQUIRES REPAIRS WHETHER COSMETIC OR STRUCTURAL,
FOR IT TO GAIN ITS FULL POTENTIAL MARKET VALUE IS CALLED A FIX-UPPER.
•THE REASON FOR THIS IS THAT ONCE THE BUYER FIXES IT, ITS MARKET
VALUE AUTOMATICALLY GOES UP. IN SOME CASES, IT WOULD REQUIRE A
MINIMUM NUMBER OF COSMETIC IMPROVEMENTS (SUCH AS PAINTING AND
ORDINARY REPAIRS) TO IMPROVE THE HOUSE.
•IN CASE THE INVESTOR HAS TO CHOOSE BETWEEN TWO OR MORE LOTS
WITH A HOUSE ON EACH, IT WOULD BE ADVISABLE TO BUY THE LOT WITH
THE WORST IMPROVEMENTS ASSUMING THAT IT WOULD COST THE LEAST
AND DEMOLITION COST WOULD BE MINIMAL. BANKS GRANT LOANS FOR
NEW CONSTRUCTIONS BUT FOR RENOVATIONS.
FOR YOUR INFORMATION

18. EARNEST MONEY DEPOSIT
- When an investor is interested in buying a
property, he or she may give the seller an earnest
money deposit equal to a certain percentage of
the selling price. The deposit is made so that the
seller can reserve the property for him until the
contract is finalized between them.
CONSTRUCTING A HOUSE OR BUILDING
- The investor should exercise control in the
different stages of construction so as to minimize
costs. Building plans should be reviewed and
revised before foundation is laid. The owner may
adopt an architectural design that provides for
future conversion of a residential unit to rental
units or for future expansion.

19. EFFICIENT USE OF LAND SPACE
- Land should be efficient used to provide for parking space or
garage, land scaping, future conversion into rental units or
multifamily residence, and for future expansion. When there are
tow lots, it would be wasteful to construct a house at the middle
of the total area. If the owner really wants to do so, he may see to
it that if the need arises, he can easily have wall constructed on
the boundary line.
MARKET CONDITIONS FOR REAL PROPERTY
- BUYER’S MARKET: This exists when buyers at an advantage are
able to avail of discounts and deferred payment plans for
extended periods. This can occur in time of economic crisis and in
localities that are not yet developed.
- SELLERS MARKET: When the market conditions indicate that it is
a sellers' market - this is when demand exceeds supply so that
sellers can charge high prices. This exists during times of
prosperity for well-developed properties and for those that can be
self-liquidating. The investor may wait for the market to change
before they buy in a seller's market.

20. • A wise investor spreads his investable
funds for real estate among the
different classes under this category.
• This is done to be assured that he
realizes profit from the sale of some of
them and in the case of rental units, to
be assured of a steady source of cash
inflow.
Diversification in Real Property Investment

21. • Conformity as applied to real estate refers to whether the property
conforms to what is normal or standard in a specific locality. It
includes conformity to city or municipal requirements and zoning
policies. It can enhance the value of property.
• It contributes to the realization of the expected cash inflow or the
expected gross margin upon sale.
• Examples of non-conformity are a multi-million-peso residential
house in an area wherein most of the houses are low-cost and a
factory building among residential units.
• Non-conformity to standards can adversely affect the market value of
a property.
• A residential property in an industrial area would not command a high
price nor would an industrial building located in a residential area.
• A buyer of a residential property would not be interested in one
located in an area surrounded by rental units.
Conformity

22. Occupancy rate
• Occupancy rate refers to the proportion of real estate that
brings in revenue based on the total capacity.
• It may be expressed in terms of number of units, months,
revenue or income producing area.
• Upon receipt of an application for a mortgage on real estate,
the lender subjects the property to an appraisal or an estimate
of its market value to determine the amount that may be
granted as loan.
• This is done to be assured that said loan would be fully secured
in terms of the market value of the property.
• The estimated market value may be arrived at based on a study
of the market, current and potential income, and on
replacement cost.
Appraisal of Real Estate

23. • In estimating market value of property based on a study of
the market, the appraiser takes into consideration
conformity or how the property fits with other properties in
the same neighborhood, the recent selling price for similar
property in the locality and the physical condition of the
subject property.
Estimating Market Value Based on a Study of the Market
• Based on current and potential income, market value
of property is estimated using gross rental multiplier
(GRM).
• GRM is the quotient between prices of recently sold
properties and the rental income realized therefrom.

24. • Average gross rental multiplier= 16.47/3= 5.49
• The average gross rental multiplier is then used in arriving at the
estimated market value of the subject property as follows:
• Estimated market value of subject property
• =Annual rental income x GRM
• =45,000 x 5.49
• = 247,050
• If the property has some defect, the subject property may be
assigned a lower value, say P247,050. If it is relatively new, a
premium may be added instead
Example of Average gross rental multiplier
SELLING PRICE ANNUAL RENTAL
INCOME
GROSS RENTAL
MULTIPLIER
PROPERTY A ₱300 000 /₱45 000 6.67
PROPERTY B ₱1 200 000 /₱250 000 4.8
PROPERTY C ₱800 000 /₱160 000 5.0
16.47

25. • A capitalization rate may also be used in estimating
market value of property. The rate is derived from
the net income from properties being sold in the
neighborhood and their selling prices. It is
subsequently applied on the property being
appraised. The formulae are as follows:
• Capitalization rate = Net
income/Market Price
• Market price for subject property = Net income/
Capitalization Rate
CAPITALIZATION RATE

26. • The appraiser may also estimate the market value of a subject
property based on replacement cost. How much would it cost to
duplicate the property either through purchase or construction?
• The amount arrived at its subsequently adjusted considering the
present condition of the property, its age and its physical, location
and functional obsolescence. The adjusted figure is the sound value.
• Sound Value is equal to replacement cost-new minus the
corresponding accumulated depreciation. It is the estimated value
of a property considering its present condition.
• Physical obsolescence refers to obsolescence arising from physical
features due to expensive internal systems resulting in high utility
costs or recurring high maintenance costs with all these resulting in
a decline in potential rental income.
Estimating Market Value Based on a Study of the Market

27. Location obsolescence. Refers to obsolescence
arising from changes in zoning and uses of property,
and property designs for a market that has ceased to
exist.
Functional obsolescence is a form of obsolescence
arising from changes in systems and uses of a
property to the extent that subject property becomes
out of date.

28. Financing Real Estate Acquisitions
• An advantage of real estate investment is that it can easily be financed by
long-term loans from financial institutions. This is due to the fact that real
estate is the most acceptable collateral for bank loans due to their
immovability and appreciation in value.
• To qualify for bank loans, the borrower must be acceptable to financing
institutions in terms of credit standing, track and record and continuous
patronage of the bank. When the real estate to be acquired is used as
collateral for loans to be obtained, it is called leveraged acquisition. In
some cases, the investor obtains a bridge loan.
• A bridge loan is one that is temporarily granted using another property as
collateral so that upon consummation of the purchase of the second
property, the latter becomes the collateral and the first property is freed of
the lender’s lien.
• Acquisitions are financed in order to spread available capital over a
number of properties and to maximize the rate of return thereon.
However, it should be done considering the risks involved and the
investor’s limitations. In some cases, properties are acquired on a deferred
payment plan or on installment basis.

29. Interest Charges and Periodic Amortization
• Interest is the amount charged by a lender to a borrower for the
use of his money and is quoted on an annual basis.
Amortization, as applied to loans refers to the periodic payments
to be made which is applied to interest and principal.
• Oftentimes, the buyer is mislead by salesmen who convince
them to buy without interest, he just have to pay a certain
amount periodically” The total interest to be paid is the
difference between the total of payments to be made and the
cash price of the property.
• Thus, if cash price and then (10) annual amortizations were
P500,000 and P88,492, respectively, total interest charges must
amount to P384,920 arrived at as follows:
• Total interest charges = Total Amortization-Cash price
= (P88,492 x 10) -500,000 = P384,920

30. Refinancing
• Refinancing refers to obtaining a new loan to
cancel an old one.
• This is usually done to take advantage of a lower
rate of interest on the new loan and/ or a longer
term. If there are two or more old loans, the
weighted average interest thereon is compared
with the new interest rate.

31. 1. Enumerate at least 2 advantages of Real
Estate investment
2. Give 3 factors considered in real estate
acquisition
3. Give 3 examples of Real Estate property
4. In your own understanding, what is real
estate?
5. What do you mean by the opportunity
cost of capital?
Questions: